November trading was primarily centred around the US election and its aftermath, with US equities significantly outperforming their global counterparts. The NASDAQ surged over 6% last month as the US Dollar strengthened considerably against both developed and emerging market currencies. The S&P 500 followed closely with a gain of 5.87% while the ASX 200 also saw a 3.79% uplift, unfazed by the swirling controversy over Trump’s tariff proposals. Bond yields have retreated from their peaks across developed countries and cryptocurrency assets have leapt to record highs with Bitcoin up a staggering 43% from the 5th of November when Trump was declared President. The debate in the financial markets regarding the effect of Trump’s tariff proposals continued last month as analysts anticipate some short-term inflation.
Core PCE, The Federal Reserve’s (Fed) preferred measure of inflation, has begun trending up with a 2.8% pace in October from 2.7% in September, according to the monthly personal income and spending report released last week. The uncertainty over what the tariffs will ultimately look like was affirmed by Chair Powell, who does not intend to incorporate them into the Fed’s policy decision at its upcoming FOMC meeting in mid-December. The key focus is on separating the noise from the signal and while markets are pricing in a 72% probability that another 25 basis point reduction will take place, there is meaningful support within the Fed to hold rates until more positive data become available.
J.P. Morgan Research expects the Fed to cut rates by another 25 basis points in December with further cuts only taking place once per quarter in 2025 as the change in the party occupying the White House creates some new unknowns. The Fed’s terminal rate is now forecast to be 3.5%, instead of 3% on the back of consumers’ strong spending power and higher job openings that indicate the economy’s strength (Chart 2). Over the near term, this activity poses some upside risks to the economy’s growth rate, and therefore inflation, further supporting the higher forecast terminal rate.
Trump Tariff Threats
Focused on protectionist policies, Trump’s “America First” agenda aims to reshape global trade to benefit US interests, and with it, come high tariffs. He has announced his intention to impose a 10% tariff on all imports from China and 25% on goods imported from Canada and Mexico. The US policy landscape is set to go through many changes during Trump’s second term with especially high uncertainty around trade policy. Tariffs directly lead to higher consumer prices for the tariff-imposing country as they raise the cost of imports which result in increased domestic demand for the domestically produced goods and services that compete with those imports. However, these domestic industries are less efficient and more costly as they need a tariff to be competitive. This will result in a short term bout of inflation. Chart 3 shows the effect of the tariffs from 2018-2019 and while they barely registered in the aggregate inflation statistics at the time, drilling into specific goods categories shows a clear impact on the price level.
New tariffs could increase consumer prices by anywhere from 0.7% to almost 2% relative to the current levels, depending on how aggressive the tariffs are. The effect on the US economy to the downside will be weaker growth and stickier inflation, although not necessarily resulting in a recession. China will face lower demand which will have trickle down effects on the rest of the global economy including one its biggest trading partners, Australia. On the other hand, we may see a reallocation of trade away from exporters affected by tariffs to those not affected. Some economies, like Vietnam, are in fact likely to gain from tariffs on Chinese production, as firms will seek to protect their margins and shift production there. Although there may be significant disruptions in the short term, an escalation in US-China tariffs is unlikely to substantially slow global growth in the medium to long term.
Portfolio Positioning
Given the uncertainty of trade policies, the Fed is unlikely to make any major cash rate decisions based on tariff assumptions, though they do run simulations to observe the impact of various policy responses. There is the rationale for easing monetary policy to offset some of the drag on GDP and to help limit a rise in the unemployment rate, however, this depends heavily on inflation expectations. With this in mind, one cannot make major portfolio adjustments without any certainty of the outcome. As such, a portfolio that is diversified across asset classes and sources of return will help buffer the overall returns when major financial markets experience heightened volatility or shock events.
As risk assets continue to surge following Trump’s win, it is a good time to maintain an allocation to risk assets including international equities while taking advantage of the higher yield environment through private debt. Real assets such as private infrastructure also provide strong inflation protection and during periods of heightened volatility, it is increasingly important to remain invested through the cycle. Liquid alternatives like managed futures and multi-strategy hedge funds can also provide a buffer during downturns as well as a source of liquidity.
LBPs investment philosophy focuses on the long-term wealth goals of capital preservation and income generation, and we do this through a disciplined investing framework and remaining invested through the cycle. As evidence shows that timing the market often leads to sub-optimal outcomes, we focus on creating robust multi-asset class portfolios with diversified sources of risk and return.
We encourage you to contact us should you wish to discuss this further or if you have any questions about how these trends are impacting your portfolio.
This article has been prepared by Lipman Burgon & Partners AFSL No. 234972 for information purposes only; is not a recommendation or endorsement to acquire any interest in a financial product and, does not otherwise constitute advice. By its nature, it does not take your personal objectives, financial situation or needs into account. While we use all reasonable attempts to ensure its accuracy and completeness, to the extent permitted by law, we make no warranty regarding this information. The information is subject to change without notice and all content is subject to the website terms of use.